The way a country manages its currency in respect to foreign currencies and the foreign exchange market is referred to as the exchange rate regime. It has a close relation with monetary policy and the factors on which the two depends are generally the same.
The basic types of exchange rate regime are
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floating exchange rate, where the movements of the exchange rate are dictated by the market,
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pegged float, where the central bank is the authority that keeps the rate from deviating too far from a target band or value,
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fixed exchange rate, by which the currency is tied to another currency, mostly more widespread currencies such as the U.S. dollar or the euro.
Types of Exchange Rate Regime
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Floating Exchange Rate
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Pegged float
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Fixed Exchange Rate
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Currency board
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Dollarization
Here I am explaining its basic types that are mentioned in the beginning of this article.
Floating Exchange Rate
Today the most common exchange rate regime are Floating rates. For instance, the dollar, euro, yen, and British pound all float. However, since central banks are frequently involved in order to avoid excessive appreciation or depreciation, Often these regimes are referred to as “managed float” or a “dirty float”.
Pegged float
In pegged float, the currency is pegged to some band or value, that band or value is either fixed or periodically adjusted.
Pegged floats are:
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Crawling bands: In crawling bands the rate is allowed to fluctuate in a band around a central value, that is periodically adjusted. This is done at a rate that is preannounced or in a controlled way following economic indicators.
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Crawling pegs: Here in crawling pegs, the rate is fixed itself, and it is adjusted as above.
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Pegged with horizontal bands: Here it is allowed for the currency to fluctuate in a fixed band (bigger than 1%) around a central rate.
Fixed Exchange Rate
Fixed Exchange rates are those rates that are directly convertible towards another currency. The domestic currency is backed one to one by foreign reserves in case of a separate currency, that is also known as a currency board arrangement. A pegged currency that has got very small bands (< 1%) and those countries by which its own currency is abandoned and the currency of another country is adopted also fall under this category.
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